In the third of our debate series, a panel of property and construction experts were assembled to look at the future of public private finance, in a sector which has delivered a huge amount of infrastructure but holds a somewhat clouded reputation. We had a great deal of interest in this debate topic and no fewer than 13 questions to address in just one and a half hours! We have summarised the key points below. Read on to find out more about the discussions in more detail.
- Despite the Chancellor announcing that PFI is to be abolished the panel believes that PPP will always be around in some form as infrastructure investment is key to a sustainable economy.
- The key to successful delivery of public private investment projects is collaboration and trust where both sides work together to develop a long term strategic solution.
- The advantage of leveraging private sector investment is that it enables high-quality assets to be delivered and maintained.
- The market needs to learn lessons from the successes that have been achieved, celebrate the success, and educate the wider media and public on the social and economic advantages that PPP can deliver.
- For the future market to be sustainable, the market needs to address the issues of price and allow the private sector to make a decent profit margin.
- The issues with the market’s reputation are not solely down to procurement or finance structures, and there are bigger construction industry issues such as quality and site supervision to be addressed.
- Any new finance model needs to be specific for the procurement requirements and strategic needs of the market. It is likely that the future model will take the best parts of previous models, but it should not just be the same thing with another label or acronym!
Our seven-strong panel was proficiently chaired by The University of Glasgow’s Director of Construction and Facilities Management, Peter Haggarty, who himself has vast experience in delivering public sector infrastructure. Participating in the debate were Kerry Alexander, Scottish Futures Trust Investment and Programmes Director; Managing Partner of The Glenmhor Partnership and main board director of hub South East Scotland Ltd, Kevin Bradley; Michael McBrearty, Chief Executive of hub South West Scotland Ltd and Development Director at Equitix Ltd; Ailsa Ritchie Partner in Infrastructure & Projects at law firm CMS; Marc Ritchie , Development Director at Robertson Capital Projects who deliver an array of construction, infrastructure and support services projects to the public sector and Director of New Business at Balfour Beatty, Nick Rowan.
Scotland’s construction and civils industry has seen a successful programme of delivery over many years through private investment in public infrastructure, either through PFI, HUB or NPD models delivering new and upgraded roads, bridges, schools and hospitals. But with no major civils project pipeline, major cuts to public sector budgets and uncertainty around Scotland’s economy on the impact of Brexit and the 2021 Scottish elections, the future for public private investment in Scotland is rather foggy. We asked our panel of experts for their thoughts on the future for the sector: is it time for a refreshed approach to the delivery of public projects to encourage private sector involvement, and what are the challenges and potential solutions available to make the path ahead clearer?
On the day of our debate the Government published its first withdrawal agreement and supporting papers for exit from the EU – this, (as we now know), has gone on to develop considerably, yet we are still no clearer on the way ahead. Again, creating more fog for an industry already in somewhat of a storm.
Addressing the national picture
Our panel started by discussing the Chancellors’ announcement in the autumn budget statement that he will “abolish PFI and PF2”, despite also confirming that half of the UK’s £600bn infrastructure pipeline would be financed by the private sector. Kevin Bradley led by suggesting that the market expects Westminster’s next approach to public private finance will be a redesign of the existing model rather than something new. He acknowledged that PFI is seen as toxic – and not popularised by the press. He believes this is due to some projects that were procured in the early days of PFI when, he confessed, some people just had better advisors than others and some companies made far too much money at the expense of the taxpayer. This, Kevin highlighted, is damage that the industry has failed to recover from. He went on to highlight that the UK currently sits at number eight in the World Economic Forum’s Global Competitiveness Index. It assesses the micro and macroeconomic foundations of national competitiveness across 14 powers that determine the level of productivity of a country. One of those is infrastructure. Kevin believes that we need to use this strength to continue to grow our economy and ensure that we have world-class infrastructure which makes the UK, and particularly Scotland, an attractive place for people to live, work and very importantly, invest. He also emphasised that the private sector will always have a huge part to play in investing in, developing, and delivering infrastructure. However an overall more equitable and transparent model is required.
Kerry Alexander agreed that some model will exist, but thought it was interesting that despite the announcement and commentary from the National Infrastructure Commission, more clarity around what the announcement actually means is needed. Kerry also noted that while both Wales and England have discussed their approach to public private investment, Scotland is not quite sure what its future approach will be. She confirmed that the Scottish Government knows that it has a role to play, given its commitment to increase infrastructure investment by £1.5 billion by the end of the next parliament, but with what approach to private finance – as yet we don’t know. Kerry highlighted that Scotland doesn’t have enough capital budget to deliver on that increase and certainly needs to find ways of working with the private sector to enable successful delivery.
Michael McBrearty agreed that not only was the announcement confusing but, when it landed, it was a bit of a surprise – particularly for those involved in bidding for major infrastructure investment projects. He believes that there is still an opportunity for private finance in some form – because if there is a need to build significant infrastructure, the Government certainly can’t do that purely out of capital budgets. He went on to suggest that the Government will need to ask difficult questions: are they prepared to provide significant investment upfront to pay for construction; do they have that cash; and will they take construction risk – in respect of overruns and delays, etc. Michael agreed with Kevin’s views that the early days of PFI caused a negative market reputation due to “private sector profiteering”. But he also agreed that there will still be a need for private finance, albeit with a model that can demonstrate value for money. He highlighted that there is now a better understanding of the risk in the market, and the competitive tensions that brings. There is a need to enter into long-term partnerships that make returns for the private sector. However, with the margins for contracts decreasing, and with the current cost of borrowing from the market at significantly lower rates than what the private sector was tied into with long-term project agreements 30 years ago, there is hope that there will be a demand for new successful public private partnerships.
Ailsa Ritchie commented that the Labour party’s plan for nationalising PFI assets is driven by the perception that PFI does not represent value for money for the taxpayer. She outlined that if current PFI contracts are terminated, there is a significant cost to the taxpayers because the investor has to be bought out and the asset which is being provided for the benefit of the public sector has to be paid for. However, Ailsa believes that on closer examination the labour party may find a real dilemma on their hands, because nationalisation of these assets will cost taxpayers significantly and if by buying out these assets and taking them back into public ownership there is a cost to the taxpayer, those funds cannot be applied to new infrastructure. Ailsa acknowledged winning votes and saying what people want to hear tends to rely upon outlining greatly improved infrastructure and services. It’s less persuasive to tell people that they will now own the roads they drive on and the hospital they are treated in but that there won’t be any new infrastructure being provided. She highlighted an alternative way that these assets could be nationalised: through legislation. In doing this we are effectively saying we are not going to pay out these investors any money, whatsoever, but these assets are back in public ownership. That has massive political ramification for the entire country, because what you are saying to huge organisations such as pension funds, is that they can lose their investment at the whim of a political party. This, Ailsa emphasised, would impact not only PFI but general investment in Britain and would probably encourage foreign investors to invest elsewhere around the world. She went on to highlight that in the recent Infrastructure Index, a research study commissioned by CMS, the researchers looked globally, to establish where the best country is to invest in infrastructure with the formulae looking at many metrics including stability, skillset and willingness of investors to invest in a country, interestingly the UK had dropped to second place having held the top position for many years. She explained that The Netherlands is now internationally, a more attractive place to invest in infrastructure. Morever, should Labour come into power and choose to nationalise our assets, either contractually or through legislation, it is highly likely that we would see a signification change in that ranking for the UK and its attractiveness to investors, not just in terms of assets but overall, with financial markets inevitably being negatively impacted too.
Nick Rowan agreed that the Government would struggle to sustain its level of debt if it invested in nationalising PFI assets and would certainly struggle to invest going forward, with the danger being the UK ends up in a similar economic situation as the likes of Greece. He also made the point that the reason the PFI model came to the market was to buy in private sector expertise. Without that knowledge how will the Government operate and maintain the assets? Nick agreed with Ailsa that this would not be a viable future.
Delivering successful public private investment projects
When questioned on whether the current models for public private investment have provided a successful increase in public infrastructure across Scotland without the taxpayer losing out, Marc Ritchie said that to measure the success it’s important to look at how much socio-economic infrastructure has been funded through PFI and its various iterations of the past years. He admitted that statistics are actually quite hard to get hold of, but having done a bit of research he believes that over the past 20-25 years there’s somewhere in the region of £10billion using revenue from the funding model being discussed. Marc questioned if this could have been delivered through capital funding, and strongly believes that it’s unlikely it could be delivered going forward. He, therefore, highlighted that tapping the market for finance is essential. Marc also highlighted that in focussing on the somewhat dull aspects of the finance, perhaps the market has started to miss the point about why fundamentally, we are all involved in these types of projects. What we are trying to do by providing schools, hospitals, bridges, roads, etc. is actually transfer the risk of delivery of those projects to the private sector; offering the public sector something which the private sector is actually quite good at. Marc went on to say that by designing the building, building it and looking after it – the public sector can focus on what it’s good at; delivering public services. Delivering value absolutely has to be about more than just raising finance. It’s about evolving as an industry; actually trying to understand how the public sector delivers its services and how it should be delivering its services concerning location, conditions and future planning and looking at where procurement is moving. Marc expressed that in his opinion future success depends upon breaking down barriers and working in partnership with the public sector to deliver first-class facilities suitable for their long term strategic needs.
Michael agreed that delivering value for money needs to look at what is being developed, procured and delivered from an infrastructure perspective, as well as the added value around the socio-economic benefits that are driven by that. He cited an interesting example at hub where they are developing both revenue-financed and capital-funded projects, often at times in tandem. He explained that he could go to two very, very similar facilities – one built and maintained by the private sector under a DBFM project – and it’s immaculate: The grounds, the building, all immaculate, even during the summer, the facilities management are there painting walls, cleaning floors etc. He compared this to a capital funded project, of the same size and scale, for the same local authority, and on a return visit he found the grounds were overgrown and the building – only a year or two old – was in a state of disrepair. Michaels’s view is that the challenge presented to the market is that we’re investing in infrastructure assets that are maintained for the long-term, with a handover after 25 years of an operational phase – so of course it’s not surprising if the buildings end up in a state of disrepair. He highlighted the importance of comparing the appropriate “value”, especially in the PPP industry, where we allow ourselves to be in a situation where external parties do not compare like for like. He cited examples where media reports are skewed when they highlight the cost of building a new school as £X amount and compare it against the whole-life costing of a revenue financed project at £Y – which in their view, therefore, is not delivering value for money! Michael stressed that the benefit of the hub model is that it allows the market to look long-term. As a partnership agreement, it allows you to take a longer-term view around engagement with SMEs; upskill them, create employment, and impact the local economy over a longer period, as opposed to a framework project where the life of project takes you two years to develop, two years to construct and then the client goes back out and retenders the framework – losing all the knowledge and lessons learned and you’re only six years down the line!
Kevin wholeheartedly agreed with Michael that hub is actually the only revenue finance model presently available in the Scottish market. He also highlighted that money has never been cheaper in the construction industry and unlike a mortgage, where you might get a fixed term for 3-5 years, hub hedge funding for the full 25 year period, so the public sector is getting that fixed term for 25 years. He cited an example where a project he has been involved with on hub South East was around £35m – but due to the markets having moved in their favour, they have managed to reduce finance by £1m a year, so the client now has extra to spend on public services elsewhere. Kevin explained that often there is criticism that revenue projects aren’t high-quality design – he cited an example school in West Calder which is winning all sorts of design awards and explained that the project was delivered within the SFT metrics, where they were monitored and measured on a regular basis, and it was fully transparent. Kevin also commented that the other advantage to the public sector is as they are a shareholder; the taxpayer gets the benefit of the same returns as the investors, but probably doesn’t have to take the same degree of risk that private sector partners do. So to refer back to the initial question – the panel agreed that the current models have delivered on what they set out to achieve without the taxpayer losing out.
The panel was asked if they believe that PPP or PFI has an unfairly bad reputation given the unfortunate incidents such as Oxgangs Primary School on Edinburgh Schools PPP and do they think there is more to be done by way of rebranding and reputation repair. On the whole, the panel agreed that while any of the incidents that have occurred where children have been hurt or put at risk are terrible, to associate the incidents with the way a project is financed is a huge mistake. They all agreed that a project’s procurement has nothing to do with its quality, but what the incidents have done is highlight an issue that is endemic across the construction industry: Lack of site supervision and an insufficient level of quality.
Kevin highlighted that the early days of PFI created a lot of negative perceptions which were, in his view, not unfounded. He outlined that too many people took far too much out of projects at the taxpayer’s expense, so he does believe that PFI, quite rightly, has a bad reputation in the eyes of the press and ultimately the everyday taxpayer. However, he also believes that the drive to deliver more for less since the financial crisis kicked off in 2008 has caused bigger issues.
With the public sector buying half of the country’s construction output, the panel suggested that it has a huge role to play. They all agreed that questions need to be asked about what pressures procurement models have on quality and what support is needed to achieve both best value and quality.
As Michael suggested earlier in the debate, it is essential that projects, their finance and their perceived or actual costs are compared on a like for like basis. Our panel all agreed that part of the requirement for repositioning PFI in the industry, is the need to educate the market, the media and the public/taxpayer, on the positives and successes that private investment has delivered, the difference it’s making to peoples’ lives and the overall economic benefits. They stressed the importance of highlighting the difference between the capital cost of a project and the whole-life cost and that these messages need to come from the public sector. The panel also suggested that taking examples of private finance from other industry sectors, such as the energy sector where the nuclear power station programme dwarfs anything that the property market has delivered, would also perhaps broaden the understanding of its wider economic success.
The audience challenged the panel on how the public sector can help achieve this reputational change, when they don’t appear to have the resources to support it. They questioned whether senior parties such as SFT or the Scottish Government itself should take responsibility to ensure behaviours change, and that projects are not only well procured and delivered, but also well managed and efficiently maintained throughout their lifespan. Michael expressed that even as an active advocate for hub, he feels that more focus on long term maintenance of the public sector estate needs to be given by the likes of SFT and the Scottish Government. Nick highlighted that the market needs to also look at how the construction industry as a whole contributes to the economy and ensure that procurement models allow companies to make a decent margin – to enable research and market development. The panel agreed that, as already discussed, the private sector should try to truly understand the needs of the public sector, to allow each party to deliver what it does best.
There was some discussion around how the construction industry is in a period of rapid change at present and there is a requirement to embrace developing innovations such as modular construction, offsite fabrication and technologies such as BIM. Nick argued that if the investment and commitment is not there from the whole industry then everyone will struggle to move forward, which would be detrimental to all stakeholders –either public or private!
Future finance models – more acronyms?
Peter moved discussions towards the future of private finance models in Scotland, asking our experts what aspects of the current models they would like to see implemented in Scotland’s next approach. Ailsa outlined the context of why changes were necessary explaining that the non-profit distributing model, which is SFT’s preferred model of delivery for revenue finance projects, hit a few blockers when the ESA10 (European System of Accounts) came into play. This meant that some projects which used to appear off-balance sheet, moved ontothe Scottish Government’s balance sheet, due to their structure. This presented an issue as one of the reasons for the Scottish Government’s promotion of revenue funded projects was to allow them to free up more capital to invest in more projects.
Ailsa went on to express that while there had been a lot of conversation during the evening’s discussions about revenue funded projects, the purpose of the debate was to look at public private investment . After describing a range of different structures that people can use – a framework contract; a partnering agreement; target-cost delivery models – she concluded that the choice really is about what is most suitable to the client and project in question. Ailsa also addressed the point about lessons learned and highlighted that she believes what the market really needs to question is if the actual price of “low-cost” in reality, is too high. Unlike some of her fellow panellists who are heavily involved in and advocates for hub, Ailsa’s view is that hub is on the borders of pushing costs too low. She agreed with earlier discussions that the market has to recognise that private companies should make a profit, that it’s healthy to make a profit. She also emphasised that we have to incentivise people so that there can be research and development, and that we can, as an industry generate interest to develop, attract and maintain the next generation in construction. Ailsa went on to stress that if the market keeps pushing costs so low, not only are we not going to achieve design excellence, but we’re not going to future-proof our buildings, and in fact we’re not going to have a sustainable industry in this country. In her view whatever new model that is looked at by the Scottish Government, it needs to be a procurement model that incentivises all the things that the market wants: great, inspirational assets that can actually be delivered in a mutually beneficial way, allowing companies to make a fair return.
There was then some discussion around what the next model may be: a change of acronym for a similar set of documentation perhaps? We’ve had PFI and PPP then NPD and HUB – and now we are looking at MIM! Kerry shared that the Welsh Assembly’s MIM contract (Mutual Investment Model) has been developed with the support of the Scottish Government through discussions with SFT. She acknowledged that the MIM model looks similar to NPD because that’s what it started as. Kerry also acknowledged that whilst budgets are tight and there is only so much capital funding available to enable infrastructure development, the public sector wants to increase its productivity and deliver social and economic infrastructure benefits, so they have to find other ways of doing it. She highlighted that from a Scottish perspective, they’re not shy about the additionality because it allows them to deliver what they want to achieve. Kerry recognises that changing the view of the construction industry isn’t an overnight change; that’s a long-term process – and the only way do that is by enabling the construction industry and the public sector to work together to develop the best way forward. Nick agreed that the market certainly needs some form of new model but one which incentivises Scottish based contractors to engage. He suggested that there a variety of schemes in both transportation and infrastructure which don’t have any UK contractor present in negotiations – he believes that this needs to be addressed otherwise we will see UK infrastructure being delivered only by EU or global contractors and may see the demise of UK counterparts.
Michael agreed – the last thing we need is another acronym – however he stressed that we’re focussing on investments funded through treasury or central government; what we need to recognise as an industry is that PPP (the term which most people are comfortable with) is happening across the UK and beyond, whether it’s through hub, through the student accommodation market, through the social housing market, through the utilities market or through the broadband market: we need to look at what leverage we can bring to private sector investment. It doesn’t matter what it’s called or how it reinvents itself – PPP is here to stay.
Alternative routes to market
The next question put to the panel asked if the Scottish Government should be looking to secure investment which supports procurement through existing frameworks rather than redeveloping something which is very similar. Our panellists concurred that there is a time and a place for frameworks but that a one size approach doesn’t work for all. Everyone also agreed that there are plenty of frameworks available but acknowledged that if they are not set up correctly or managed properly, you may end up stuck with something that doesn’t provide the choice or flexibility requested by the public sector. Ailsa suggested that educated purchasers need to be prepared to run their own procurement to get what they want and Kerry agreed that we need to be evolving our procurement routes.
To some amusement, the panel was asked how they had avoided the “B word” or talk of “Brexit” throughout the evening’s debate and were asked to share their views on the construction industry’s readiness for March 29th. The panel agreed that Brexit would bring its own issues to an industry already under financial pressure. Whilst major contractors have Brexit strategies in place or in development, the risk of taking on large scale infrastructure is unknown and therefore a lot of clients are finding it harder than ever to encourage UK firms to bid for work, particularly when profit margins across the industry are significantly poorer than in other UK markets. Nick outlined that average profits for the UK’s top 20 contractors are at minus five to minus seven percent! He acknowledged that Brexit will inevitably bring price increases and Kevin highlighted that this probably means the “B-word” will cause more incidences similar to the demise of Carillion – and therefore the “C-word” may become more of an issue than the “B-word” itself!
Everyone agreed that the uncertainty, in addition to the issues of margins, price rises and an increase in imports due to off-site manufacturing means that the pressure on labour resources is huge. This, our panel believes will be a major issue across the industry particularly in the south-east where 50% of labour comes from outwith the UK. The impact of this on Scotland may come as a surprise to clients who at the moment, Kevin suggested, don’t seem too concerned about it. After all, as he went on to highlight, only 10% of construction labour in Scotland comes from outwith the UK. However, he believes there’s every likelihood that the south-east will look to the Scottish labour market post-Brexit, to entice a workforce south with inflated salaries – which will, in turn, have a massive impact on an already resource-strapped market.
Looking to the future
As the debate was drawing to its conclusion, the panel was asked where they see the construction industry in 10 years’ time. With all of this uncertainty and increased risk adversity, Peter admitted we could debate the future of the industry all night – but knowing where we stand next week or next month is a challenge let along any further! He invited Ailsa to comment; she concisely summarised that whilst clients would like to pass down the risks of Brexit to their supply chains – it’s never going to work out that way. She highlighted that there will be winners and losers over the next few years: There will be some entities that will take Brexit as an opportunity and it will be interesting to see how that pans out; then there will be those who are prepared but have not made the right preparations; and perhaps those who come at Brexit with a different perspective may well be the winners. She concluded that as the evening’s discussions had highlighted the industry ultimately needs to recognise the role that infrastructure plays in our economy and it wouldn’t be good for any of us if there were no deals, no homegrown contracts, and no next generation to provide the skillset required to enable Scotland to compete internationally. In terms of moving on, Ailsa said that it’s time for everyone to think positively about the opportunities that we could have and look forward!
What does the future hold for public private investment in Scotland?
As Peter drew the debate to a close, he asked our panel to give a concise summary of the evening’s discussions by answering the debate theme: what does the future hold for public private investment in Scotland?
Marc believes it’s not about funding projects but about finding a way of working together to identify strategic needs and deliver and maintain valuable assets. Ailsa’s views see the market depend upon two things: genuine partnering and pairing price with a fair profit. Michael agreed that long term partnerships and trust are the key to leveraging the private sector for finance or not – as appropriate!
Kevin highlighted that since the Scottish Government is committed to generating economic growth by investing in infrastructure, we are likely to see a future that moves towards investment levels enjoyed in other G7 countries – where we’ve always underinvested compared to them.
Kerry would like to see advantage taken of the significant opportunities to learn from everything that has gone before and the creation of a vibrant construction industry for Scotland and Nick summarised his views simply with three words: Balanced risk profile!
It is fair to say, that this was a topic with a great deal of avenues for discussion and although we covered a lot during the evening’s debate, there are lots of aspects we didn’t touch upon or have time to further expand. With the ever-evolving uncertainty around Brexit – this is one topic where there will always be room for debate and we look forward to hearing your experiences over the coming months as we all navigate the way forward. We would welcome your comments and views on the topic, which you are invited to share through LinkedIn here.
Mackenzie England would like to thank everyone who came along and participated in making the debate a great discussion. Special thanks go to Peter Haggarty for chairing the debate and to our panel Kerry Alexander, Kevin Bradley, Michael McBrearty, Ailsa Ritchie, Marc Ritchie and Nick Rowan for sharing their honest opinions, interesting experiences and informed views. Thanks also to RICS Glasgow regional committee, RICS Matrics, CIOB and Novus for their support.
Mackenzie England will be hosting another panel debate in May 2019. Follow us on LinkedIn to find out more. If you would like to be added to our email invitation list, please contact firstname.lastname@example.org.Share this Post: